Conditions apply

Futures trade in farm commodities won't work with controls

The demand from various organisations for lifting the nearly year-old ban on futures trading in key agricultural commodities, though well-founded, needs to be weighed cautiously before taking the final call. For, despite its well-acknowledged virtues, futures trading has little chance to perform to its potential in India because of excessive government intervention in commodity marketing and the lack of stable domestic and external trade policies. The market regulator, the Securities and Exchange Board of India, has barred futures contracts for several farm products, including some edible oils and oilseeds, pulses, wheat, and non-Basmati rice, to keep their prices within check. But that purpose has, obviously, not been served, seen from the fact that the prices of farm goods have continued to fluctuate, moving mostly upwards, even after the ban.

The latest official data, which indicates that the food inflation rate surged to 7.62 per cent in August from 6.75 per cent in the preceding month, despite the suspension of futures trading, bears this out. Several committees and commissions set up from time to time to study the impact of derivatives trading on spot market prices have found no linkage between the two. Even a Reserve Bank of India report, released in 2009 after the 2007-08 world food price crisis, had maintained that the prices were influenced by the familiar drivers, such as demand-supply gaps, a degree of dependence on imports, and international price movements.

Actually, futures trading, if allowed to function properly — which, unfortunately, is not the case in India — can provide numerous benefits, some of which were enumerated succinctly in the 2006-07 Economic Survey. It pointed out that futures trading helped in efficient price discovery; enabled a timely flow of information to market participants; ensured price transparency; minimised price shocks; and facilitated quick remedial action against aberrations in price behaviour. However, these gains can be obtained only under free market conditions. This prerequisite is not met in India where the prices of commodities, especially those of the politically sensitive agri-commodities, are sought to be controlled by the government through actions like fixing minimum support prices; imposing stockholding and movement curbs, and altering import and export policies. Even some non-agricultural commodities, such as gold and oil, are often subject to government interventions.

That aside, another facet of the commodity derivatives market that cannot be overlooked is that it is not immune to manipulation by speculators. Unless the market regulator is vigilant enough to foresee the speculators’ moves and take pre-emptive action, these market players, with deep pockets, can influence prices to serve their vested interests. In fact, the K N Kabra committee, on the recommendation of which futures trading in farm goods was restarted in 2002-03 after a prolonged gap of nearly four decades, had also cautioned against the machinations of the speculators. However, the proponents of futures trading feel otherwise. They argue that it is the speculators who shoulder the risk which the other market participants seek to hedge through this mode of marketing. Both hedgers and speculators are, indeed, viewed as an integral part of this market. All these aspects, therefore, need to be kept in view while taking any decision regarding futures trading in agri-commodities.